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RealD Gives Away the Farm

An expanding theater count and a better crop of movies haven't been enough for RealD(NYSE: RLD) to give investors a sniff of profits yet. A whopping 11,300 screens now show RealD movies, and even that isn't enough to have investors seeing 3-D dollar signs.

Growth for growth's sakeThe expansion binge continued throughout 2010, and the company ended with a 163% increase in screens from 4,300 last year. The increase helped bump total revenue up 91.4% to $57.8 million. That growth easily outpaces competitorIMAX(Nasdaq: IMAX), but growth has come at a price for shareholders.

Exhibitor option expenses, meant to kick-start growth, are continuing to take a toll on revenue.

How to give away a businessRealD gave options to AMC, Regal(NYSE: RGC), and Cinemark(NYSE: CNK) for helping RealD meet growing installation goals. The cost of these options comes straight out of revenue and has the added effect of being dilutive to shareholders going forward. So RealD built a rocket-powered business model that gave suppliers a piece of the business for helping out. That may sound like it's a good idea, but now RealD is paying the piper.

The good news is management expects these options to be fully vested by the end of the June quarter, at which point results won't be muddled by a huge options expense. But it will have a bigger diluted share count, something shareholders will have to live with.

To show where RealD stands without options and other costs, adjusted EBITDA more than tripled from last year to $16.9 million in the quarter. If RealD operated in a world without interest, taxes, depreciation, amortization, and other adjustments, the business would be looking pretty good.

Even license margins of 71.9% look incredible until you realize the company conveniently strips out eyewear costs, even though glasses are required to see 3-D movies. Eyewear operates with a negative 19% margin bringing total gross margin to a measly 10.6%. Ouch!

Foolish bottom lineThe loss this quarter isn't the end of the world, and when options stop taking away revenue, results will look much better. With excuses like this running out, it's time for RealD to turn on the profit machine and show what it's really made of.

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